Elements of a Financial Statement

Elements of a Financial Statement

Publicly traded companies are required to issue audited financial statements annually. There are seven parts of the statements that are briefly described here in the usual order they are presented:

1. Report of independent registered public accounting firm. This provides their opinion that the financial statements were in conformity with U.S. generally accepted accounting principles [GAAP]; that the company maintained effective internal controls; that the audits were conducted in accordance with standards of the U.S. Public Company Accounting Oversight Board [PCAOB] and some other things and that their audits provided a reasonable basis for their opinion; and that the internal control may not prevent or detect fraud. This needs careful reading and understanding, as do all seven elements of the statement, but on some level this type of report is the gold standard for public companies.
2. A balance sheet or statement of financial position shows snapshots of the company’s assets, liabilities and stockholders’ equity as at the end of the fiscal year. Usually the current year is compared to one or two previous years. The “balance” is that the assets equal the liabilities plus the stockholders’ equity. The stockholders’ equity is usually referred to as the book value or net worth per the books.
3. A statement of earnings or income provides a summary of the annual operations of the company. It shows the gross revenues, total costs and expenses and net income. If the balance sheet is referred to as a snapshot, the income statement can be referred to as motion picture with a beginning, middle and end summarized for the year.
4. The statement of cash flows shows how much cash came into or left the company during the year in three categories – from operating, investing and financing activities. While the balance sheet shows the year end balances, and the statement of operations the total activities of the company during the year, this statement relates everything that occurred to either cash in or out.
5. Other comprehensive income reports on items not considered as income or loss or capital transactions but that affect the company’s net worth. Examples are foreign currency translation fluctuations, gains or losses on securities invested in that are not intended to be held long term or certain adjustments to retirement plans.
6. The statement of changes in stockholders’ equity reconciles the beginning of year amounts with the ending taking into account the income earned or lost, sales or repurchases of capital stock, dividends paid, and other actions affecting stockholders’ equity that did not appear as separate items on the other statements.
7. The notes to financial statements contain disclosures explaining the amounts reported on the five statements where there are choices as to how they can be reported. The notes also explain which generally accepted accounting principles (GAAP) the company has adopted. For instance there are numerous ways depreciation can be calculated and inventory valued under GAAP. The notes are not “footnotes” but an extremely important and integral part of the financial statement. Some companies have more than fifty pages of such notes and each should be read and understood when financial statements are reviewed and analyzed.

The is a lot more to financial statements, but the above is a good way of starting to understand their organization and contents.