Financial Statements
1. What are Financial Statements?
● Financial statements are formal records of the financial activities of a business.
● They provide a summary of a company’s financial position, performance, and cash flows.
2. Types of Financial Statements There are four main types of financial statements:
1. Income Statement (Profit and Loss Statement)
○ Shows the company’s revenue and expenses over a specific period.
○ The formula: Net Income = Revenues - Expenses
2. Balance Sheet
○ A snapshot of a company’s financial position at a specific point in time.
○ It lists assets, liabilities, and equity.
○ The formula: Assets = Liabilities + Equity
3. Cash Flow Statement
○ Shows the movement of cash in and out of a business over a period.
○ It is divided into three sections: Operating, Investing, and Financing activities.
4. Statement of Changes in Equity
○ Shows changes in a company’s equity during a period, including profits, losses,
and dividends paid.
3. Components of Each Statement
● Income Statement:
○ Revenue: The income earned from selling goods or services.
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○ Expenses: The costs incurred in earning the revenue.
○ Net Income: The difference between revenue and expenses. If revenues are
higher than expenses, the result is a profit; otherwise, it’s a loss.
● Balance Sheet:
○ Assets: Resources owned by the company (e.g., cash, inventory, property).
○ Liabilities: Amounts owed by the company (e.g., loans, accounts payable).
○ Equity: The owner’s claims to the company’s assets after liabilities are deducted.
● Cash Flow Statement:
○ Operating Activities: Cash received and spent in the core business operations.
○ Investing Activities: Cash used for buying or selling assets (e.g., property,
equipment).
○ Financing Activities: Cash transactions related to funding the business (e.g.,
issuing stocks, repaying loans).
● Statement of Changes in Equity:
○ Opening Equity: The equity at the start of the period.
○ Additions/Changes: Include profits earned, additional investments, or changes
due to issuing shares.
○ Ending Equity: The equity at the end of the period, which is calculated by
adding changes to the opening equity.
4. How to Prepare Financial Statements
1. Start with the Income Statement to calculate net income.
2. Use the Net Income from the Income Statement to adjust the Balance Sheet
(particularly for the Retained Earnings part).
3. Prepare the Cash Flow Statement using the information from operating, investing, and
financing activities.
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4. Finally, complete the Statement of Changes in Equity, reflecting the changes in the
company’s equity during the period.
5. Key Reminders:
● Financial statements should be accurate and follow accounting standards (e.g., GAAP or
IFRS).
● Always check that the Balance Sheet balances (Assets = Liabilities + Equity).
● Review your cash flow statement to ensure all cash transactions are accurately
recorded.
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