3 Types of Financial Statements
There are three types of financial statements, i.e., Balance Sheet, Income Statement and Cash Flow Statements. These written records facilitate the analysis and comparison of an organization’s financial position and performance.
Let’s take a look at what these statements store in them and what role do they play in reporting the performance of the business.
- Balance Sheet: To tell where the company stands in terms of assets and liabilities.
- Income statement: To explain how different income streams have performed.
- Cash flow statements: To explain how the actual cash flow is.
#1 Balance Sheet
It is one of the types of financial statements considered as a final output for all financial statementsFinancial StatementsFinancial statements are written reports prepared by a company's management to present the company's financial affairs over a given period (quarter, six monthly or yearly). These statements, which include the Balance Sheet, Income Statement, Cash Flows, and Shareholders Equity Statement, must be prepared in accordance with prescribed and standardized accounting standards to ensure uniformity in reporting at all levels. as the net profit from the income statement and ending cash balance from cash flow statements are inputs for creating a balance sheet. It shows all the assets and liabilities & shareholder’s equity of the company. According to the balance sheet equationBalance Sheet EquationBalance Sheet Formula is a fundamental accounting equation which mentions that, for a business, the sum of its owner’s equity & the total liabilities equal to its total assets, i.e., Assets = Equity + Liabilities:
Assets = Liabilities + Shareholder’s Equity
Example of Balance Sheet
In balance sheet on the side of Assets in AccountingAssets In AccountingAssets in accounting refer to the organization's resources that hold specific economic value and facilitate business operations, meet expenses, and generate cash flow. They create the company's worth and are recorded in the balance sheet., we have the following items:
- Cash and Cash EquivalentsCash And Cash EquivalentsCash and Cash Equivalents are assets that are short-term and highly liquid investments that can be readily converted into cash and have a low risk of price fluctuation. Cash and paper money, US Treasury bills, undeposited receipts, and Money Market funds are its examples. They are normally found as a line item on the top of the balance sheet asset. : The amount of money that the company holds as cash and bank balance.
- Marketable SecuritiesMarketable SecuritiesMarketable securities are liquid assets that can be converted into cash quickly and are classified as current assets on a company's balance sheet. Commercial Paper, Treasury notes, and other money market instruments are included in it.: The Company can also park investment in mutual fund schemes, debentures, public stock/private investment in other companies to earn for the short term.
- Account ReceivablesAccount ReceivablesAccounts receivables refer to the amount due on the customers for the credit sales of the products or services made by the company to them. It appears as a current asset in the corporate balance sheet.: It is the claim of the company against all the credit-based sales done by it to the clients.
- Inventory: It is the main product and services which the company wants to sell.
- Plant & Equipment: It includes all the equipment which the company uses to build its products.
On the Liabilities side of the Balance sheet, we have the following items:
- Accounts Payables: It is the total claims that others have on our company as we purchase their goods and services on credit.
- Unearned Revenue: When a customer pays in advance, but the product is not yet delivered to him when we say that this revenue is yet to be earned, and hence it becomes a liability on our balance sheet.
- Current Portion of Long Term Debt: It shows that part of the debt which we need to retire this year itself.
- Long Term Debt: It shows all the long terms borrowings of the company, which we will repay over a long course of time as and when they come due.
On the Equity side of the Balance sheet, we have the following items:
- Paid Up Capital: It shows the original capital, which was invested by the owners of the business, and also follows on the increase in capital if more shares were issued.
- Retained EarningsRetained EarningsRetained Earnings are defined as the cumulative earnings earned by the company till the date after adjusting for the distribution of the dividend or the other distributions to the investors of the company. It is shown as the part of owner’s equity in the liability side of the balance sheet of the company.: It provides an insight into the money which the business has made over time but has kept it with itself rather than sharing it with investors by way of dividend.
#2 Income Statement
The income statement is one of the types of financial statement which stores all the income and expenditures of the company. As the business does its day to day business, it keeps on incurring daily expenses and earning income from its business activities. All these items are recorded in this statement. We earn our income by way of selling our products and providing services to the client. There can be a variety of expenses which the company can incur, some of which are mentioned below:
- Telephone & Internet
- Water & Electricity
- Advertising & Marketing Cost
- Interest Paid and Other Bank Charges
Above is the list of expenses, and this list is not conclusive.
Example of Income Statement
Below is a typical example of the Income statement:
We start by reporting our overall sales from the business. Then we subtract the cost of producing those goods and services to get the gross margin of the business. Now we subtract all the business-related expenses (like the ones mentioned above) to calculate Operating earnings (EBITDA). Then we subtract depreciation and amortization (D&A) to calculate final operating earnings (EBITEBITEarnings before interest and tax (EBIT) refers to the company's operating profit that is acquired after deducting all the expenses except the interest and tax expenses from the revenue. It denotes the organization's profit from business operations while excluding all taxes and costs of capital.). From EBIT, we will reduce Interest to get Earnings before tax (EBT) / Profit before taxProfit Before TaxPretax income is a company's net earnings calculated after deducting all the expenses, including cash expenses like salary expense, interest expense, and non-cash expenses like depreciation and other charges from the total revenue generated before deducting the income tax expense. (PBT), and then we will deduct taxes to calculate the final figure of Profit after tax Profit After Tax Profit After Tax is the revenue left after deducting the business expenses and tax liabilities. This profit is reflected in the Profit & Loss statement of the business.(PAT).
#3 Cash Flow Statement
This statement is one of the types of financial statements that records all-cash transactions that have happened over the period in the business. There are some ways by which the books of account can be window dressed to look better then what they should be in real but manipulating cash is very difficult. Hence, a cash flow statement is considered a more reliable source of information about the company. A company primarily generates cash from 3 areas:
- From its operations: which is covered in cash flow from operating activities.
- From the purchase and sale of its assets: which is covered in cash flow from investing activitiesCash Flow From Investing ActivitiesCash 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.;
- From raising funds via debt and equity: which is covered in cash flow from financing activities;
Example of Cash Flow Statement
Within Cash Flows from OperationsCash Flows From OperationsCash flow from Operations is the first of the three parts of the cash flow statement that shows the cash inflows and outflows from core operating business in an accounting year. Operating Activities includes cash received from Sales, cash expenses paid for direct costs as well as payment is done for funding working capital., we start from Net Income and then reduce all the non-cash expensesNon-cash ExpensesNon-cash expenses are those expenses recorded in the firm's income statement for the period under consideration; such costs are not paid or dealt with in cash by the firm. It involves expenses such as depreciation. like depreciation and add back all the non-cash gains in Net Income. Then, we add back all the decrease in 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. as they would have reduced our asset balance initially, and hence we should add them. Similarly, we need to subtract all increase in the current asset as an investment in the current asset would have reduced our asset pool, and hence we should add it back. We will do just the opposite of the liabilities side to back-calculate the cash flow from our business operationsBusiness OperationsBusiness operations refer to all those activities that the employees undertake within an organizational setup daily to produce goods and services for accomplishing the company's goals like profit generation..
Then within Cash Flows from Investing Activities, we will start with adding all the sales with respect to plant, machinery, and equipment as they have increased our asset balance and subtract all the purchases that we have made of these long term capital assets. This will help us in calculating cash flows originating from investing activities.
Then we will move on to the final part of 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., i.e., Cash Flows from Financing Activities. Here we will add all the items that have infused cash in our capital structure like sale of debenture or sale of equity and subtract all the items that have brought down our cash balance from this aspect like a redemption of bonds, etc.
The sum of all these 3 line items will give us the cash balance increase/decrease during the year. Now we will add it to the beginning cash balance to get the ending figure of cash and cash equivalents.
This has been a guide to the three types of Financial Statement i.e., 1) Income Statement 2) Cash Flow Statement and the Balance Sheet. You may learn more about Accounting from the following articles –